Thursday, July 24, 2008

I had a Howard Beale moment this morning while watching the financial news. Growing more and more frustrated with the news, I found myself standing up in the middle of my living room at 5:30 a.m., yelling at the TV set like Beale’s character in the legendary movie, Network. My dogs, Shaft and Daisy, didn’t even notice my outburst, while Sam, my cat, glanced at me and decided it was time to stretch and then go back to sleep. Maybe they’re just used to it by now.

There are so many 24-hour news channels these days that the market is now completely saturated. I watch the international business news from 4:00 a.m. to 6:00 a.m., and it always seems to be one financial analyst after another giving an increasingly glum outlook on the financial world. According to these so-called experts, humankind is entering an economic depression unlike any seen since 1932.

These are the same “experts” that advised investors to not purchase financial stocks for the last six months, but have now turned 180 degrees and are bullish on the sector. If you read my “Think, Don’t Trade” blog on July 10th, you likely recall how ridiculously undervalued these stocks were at that time. Now, many are up 25% to 40% from their lows. This makes me wonder how these analysts even get on national TV. Is it because the more outrageous their comments, the more likely they are to get face time on a financial news program? Regardless, and as I’ll illustrate below, the wealth of misinformation they are circulating has gone too far!

A financial news report being broadcast out of London this morning featured a stately British financial author expressing his outrage concerning the world’s financial situation. As he explained the evils of the world in his incredibly monotone voice, I found myself dozing off from boredom. Of course, like most experts in the media who tend to just criticize, this fellow didn’t offer solutions or anything useful to investors. However, one of his statements did catch my attention, and that’s what made me stand up and scream, “I’m mad as hell, and I’m not going to take this anymore!”

The British commentator was criticizing the U.S. economy and the American banking institutions. Along with trashing nearly everything American, he stated, “The U.S. is now paying the ultimate financial sacrifice for over 30 years of complete and total mismanagement of the economy in the U.S.”

Admittedly, we do have financial strains in the U.S., but it’s a gross overstatement to say that we’re suffering from 30 years of economic mismanagement. It was even more irritating that the interviewer never bothered questioning how the British financial guru arrived at that opinion and simply seemed to accept it as fact. So, I think it’s time for me to get out my bullhorn and tell the world how ridiculous these commentaries have become.

It didn’t take much research to disprove the British financial author’s statement, since it was readily available on the U.S. Department of Commerce’s website. During the first quarter of 1978, the U.S. GDP was $2.15 trillion. Thirty years later, and for the first quarter of 2008, the U.S. GDP was $14.201 trillion. Recognizing that no other economy in the world has a GDP that exceeds $5 trillion (Japan is second with $4.5 trillion), I would have to say that the U.S. economy has done pretty well over the last 30 years. In fact, the U.S.’s GDP has compounded at an annual rate of 6.495% over the last 30 years.

With those facts, how dare the British author make such an inaccurate statement? It is even more offensive that he made that remark when he lives in a country with an economy that has gone from being the strongest in the world to a lower-tier economy over the same timeframe.

Virtually all of Europe’s socialist governments would love to have an economy growing at a 6% annualized rate for a single year. To believe their economies could grow at the same growth as the U.S. over 30 years borders on the absurd. I want to re-emphasize that the British financial author described the U.S. economy as “grossly mismanaged” over the last 30 years. Clearly, the facts do not support his misstatement.

There is absolutely no question that the U.S. economy is stressed right now. There is also absolutely no question that it’s improving. When I hear the daily exclamations in the media of the ongoing recession (and in some cases, a depression), I scratch my head since I know that neither is true. Next week the GDP report on the second quarter of 2008 will be released, and it’s more likely to reflect 2% GDP growth than 1%. But in either case, neither of those anticipated numbers is negative contrary to what many commentators would like for you to believe.

Let’s get real about the problems in the financial sector, people! There’s no question that the financial sector is tense at the moment. However, as second quarter earnings from these banks are reported, realization is setting in that things are not nearly as bad as the media would like for you to believe. Yes, banks are taking write-downs of assets, but never forget that these are write-downs not write-offs. It will be some time before the realization of these assets is accurately written down during this quarter. If these reserves are way too high, as I suspect, when they are reversed in future quarters then these banks will have phantom income to the likes never seen before in this country.

Many media members are now placing the blame on former Federal Reserve Chairman Dr. Alan Greenspan. Their opinion is that Dr. Greenspan, in his attempt to build-up the economy prior to his retirement in 2006 kept interest rates too low for too long. These commentators are Johnny-come-latelies as far as I’m concerned.

Those who know me likely remember my harsh criticisms of Dr. Greenspan in many of the years of his 17-year term. While Bob Woodruff was describing Dr. Greenspan as a “maestro,” and he was being knighted by the Queen of England, I was openly criticizing his economic gibberish and irrational moves in interest rates.

I had another one of those Howard Beale moments when reading a recent article in the New York Times, which placed the blame on our current financial woes at the feet of the financial institutions. The article stated that, “the lucrative lending practices of banks and other financial institutions [helped] create the current financial crisis of millions of borrowers and the financial system in general.” A more inaccurate statement regarding the bank’s responsibility for our financial situation has never been more clearly written.

The U.S. has become a country where no one seems to take responsibility for their own actions. While there are probably some borrowers who were misled, the vast majority of those facing foreclosure were responsible for their present situations.

Former Texas Senator, Dr. Phil Gramm recently exclaimed that the U.S. isn’t in a recession and that we had become a country of whiners where too many Americans are blaming their problems on someone else. After his statement, he was ridiculed by the press and resigned as the financial advisor to Senator John McCain. The fact of the matter is that he was absolutely correct and McCain made a critical mistake by not supporting his comments.

The source of the downturn in banking and sub-prime lending can clearly be laid at the feet of Congress itself. In the Community Reinvestment Act (or CRA) of 1977, Congress required banks to extend home mortgages to underserved populations and commercial loans to small businesses. In fact, Congress mandated that in order for banks to maintain their federal guarantees on deposits in changes to the CRA made in 2005, they would be required to make loans to low and moderate-income borrowers and to certain neighborhoods that they wouldn’t normally approve before that time.

In the late 1970’s, there was great outrage regarding bank “redlining” practices, where certain banks were accused of targeting only wealthier neighborhoods for their lending services. In fact, the Washington Post explained that minority applicants were approved for mortgages only 72% of the time while whites were approved 89%, and therefore, there was overwhelming evidence of discrimination in the lending industry (according to the Washington Post). The press didn’t focus on the quality of credit maintained by the potential borrowers who were being turned down or their ability to repay mortgage loans. But in any event, Congress dictated that income, credit history and net worth would basically be ignored, and subsequently, loans were made to credit unworthy borrowers who had no ability to repay the loans. Even worse, they required by law that Freddie Mac (FRE) and Fannie Mae (FNM) fund these loans. Sound familiar?

I have known a lot of bankers during my professional life, and I can assure you that banks are in the business of loaning money. They really don’t care who they loan it to; they only care that it is repaid. I recognize that this is totally counter to politicians who couldn’t care less whether or not banks make money; they’re just out to get votes. If they can use their political clout to force banks to make loans that they shouldn’t, then it certainly gains votes for them.

I find it incredibly frustrating to hear how this matter is being reported in the news. Now that we have come full circle and many of these loans that the banks were required to make by government intervention have blown up, it is Congress saying that there now needs to be more governmental intervention in banking. I guess since they didn’t mess it up badly enough the first time, now they want to get involved and make it better….

Truly, banks would function much more efficiently without governmental intervention. “Governmental assistance” is an oxymoron; to suggest that our government can rectify this problem is incredibly naïve. Yes, the banks made enormous mistakes by lending to people they shouldn’t have extended loans to. But, it could hardly be legitimately argued that these lending tactics were the bank’s fault.

While there will certainly be foreclosures and a period of unrest in the real estate markets, the best solution to this problem would be to let the lenders and the banks work it out without governmental intervention. In a few years, we’ll look back at this time as being one of the great real estate buying opportunities of our lifetimes.

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